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Directors Could be Storing Up Trouble for Later by Sacrificing Their Pay and Drawings Now

posted 10 Dec 2010, 09:39 by Mpelembe Admin   [ updated 10 Dec 2010, 09:40 ]

Company directors are cutting their drawings and foregoing
their pay in order to save their companies in the current
economic crisis.

Many of them are still hoping that the market will recover
and as a result are retaining costs that their companies
cannot afford by sacrificing their personal drawings on the
company today.

But for how long can, or should, directors sacrifice their
income and dividends in order to retain the company's
capacity for growth in the hope the order book fills up?

The example of a construction company that had declined from
a turnover of £5 million down to £2 million, with
overheads that required a turnover of at least £3.5
million illustrates the questions that need to be asked.

This particular company called in a rescue adviser when it
the was losing something in the order of £60,000 a
month. Its directors' dilemma was how long they could go on
losing that kind of money.

It may have been sensible for them to hold on and forego
drawings and salary while they hoped that sales would
increase, however it soon became apparent that orders would
remain low for some time. In addition despite sacrificing
their salary, the losses ate into the balance sheet and
within six months the company was insolvent with negative
equity and late payments. With the company in negative
equity its losses were then being borne by creditors rather
than the shareholders.

Once a company's creditors are affected by a worsening
balance sheet then there is a risk that the directors could
be held personally liable for the increasing debt if they do
not take decisive action to get the situation under control,
for example by consulting a business turnaround adviser.

In any case no company can realistically remain in an
insolvency situation for long without taking some measures
to try to move it back into profitability and only relying
on hope of am upturn in the market.

At the time of writing (November 2010) it is estimated that
there are more than 370,000 Time to Pay arrangements between
businesses and HM Revenue and Customs (HMRC). This huge
number suggests that many directors have sacrified their
drawings for the sake of propping up their company to keep
it going in the short-term by deferring payments rather than
restructuring the business for long term survival. This
highlights the need for a lot of companies to change their
business model and significantly cut their costs.

This action would benefit a company's directors, who could
then resume paying themselves once the company returned to
profitability.

It may be easy in such circumstances to cut your drawings,
pension contributions or health insurance but this can only
ever be a short term measure. As directors begin to discover
that the short term measures are becoming longer term this
will have an impact on their personal lives. Indeed some
directors are already having to put some of their own money
into companies, either by remortgaging their homes or taking
money out of their pensions to prop them up as market
conditions remain difficult. Frequently this is another
short-term measure that does not restructure the business to
reduce or remove costs.

Without a proper review of the company or the ability to
make profits they may be prejudicing their personal futures.

This is all indicative of a failure to bite the bullet and
restructure in the hope that the market will pick up. But it
is also a failure to take advantage of an opportunity. It is
a very rare company that does not need to review its
business model from time to time, and it may also be that
there is a viable core business buried under the current
problems that an objective but supportive turnaround adviser
may be able to identify and help the directors to nurture.


About the Author:

Tony Groom, of K2 Business Rescue advises writer Ali Withers
that for directors to forgo pay and cut back drawings to
reduce the balance sheet is a short term solution for a
company in difficulties. If they don't restructure with the
help of a turnaround adviser to restore solvency they could
find themselves personally liable to creditors.
http://www.rescue.co.uk
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